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Bankruptcy Could Be More Costly

Businesses filing for bankruptcy need loans to work out their troubles, or face liquidation.

But General Motors and its smaller rival, Chrysler, have threatened that they will need $125 billion, in what would be the largest bankruptcy financing packages ever, if they do not receive the additional federal aid they are requesting.

GM auto dealership with sign.
GM auto dealership with sign.

G.M. alone has said that it needs $100 billion to finance its bankruptcy. To many, that figure seems far too high, and may be a negotiating tactic to keep the companies out of bankruptcy.

Several bankruptcy experts doubted that G.M. would need to draw upon anywhere near that amount to get court protection from creditors.

“That could be a ploy so they will not be forced to file,” said Edward I. Altman, a bankruptcy expert and a professor at the Stern School of Business at New York University.

Chrysler has said that it needs up to $25 billion, which would put the combined aid at $125 billion.

Even in ordinary times, pulling together such financing from private lenders alone would be nearly impossible. But with the troubles disrupting the economy, some of the financiers who specialize in so-called debtor-in-possession, or DIP, loans have been skittish.

That would leave the Treasury Department responsible for the vast majority of any financing for the carmakers. The largest DIP loan on record, made to Lyondell Chemical last month, was $8 billion, and that was obtained only after three weeks of breakneck negotiations.

Mr. Altman had earlier thought that G.M. would need $50 billion in DIP financing to survive.

Yet others contend that having that much financial cushion could assuage the fears of the creditors to the companies, leaving the carmakers with the cash necessary to keep the lights on and the factories running.

DIP loans are actually relatively safe for the banks that make them, said Andrew O’Brien, co-head of syndicated and leveraged loans at JPMorgan Chase.

That is because these loans typically mature within two years and must be paid back before other loans. Most professionals can recall only one big DIP loan, to Winstar Communications, that failed to be paid back.

In fact, some experts, including Mr. Altman, have advocated pushing G.M. and Chrysler into bankruptcy with the government providing the DIP financing. That would help ensure that taxpayers are repaid first.

The Treasury Department has already hired the investment bank Rothschild and the law firms Cadwalader, Wickersham & Taft and Sonnenschein, Nath & Rosenthal as advisers, largely to work on this very issue.

Mr. Altman’s plan would most likely work by the government providing money through a bank or a financial firm like GE Capital. That, in turn, would be doled out in portions after G.M. hit certain milestones. He also suggested strong-arming banks that have received federal bailout money into contributing to the DIP package.

The government could also benefit from the fees it would earn by providing DIP loans.

According to lenders like GE Capital, the average interest rate on DIP loans has nearly doubled in the last two years, to 6.5 to 9.5 percent above benchmark interbank rates. Lenders have also doubled their fees.

Lyondell, for instance, is paying more than 20 percent for its financing, a rate normally seen on credit cards.

G.M. and Chrysler also have other options to a full-fledged Chapter 11 filing.

The government could provide more bailout money or other aid while the companies try to restructure themselves outside of bankruptcy, a prospect that many see as an endless abyss.

Another alternative is what is known as a prepackaged bankruptcy, in which the carmakers would line up restructuring agreements with their creditors and use the courts to make these accords binding.

Yet such a plan would still require billions of dollars in financing, most of which would certainly come from the government.

Some parts of the credit markets have begun to revive, but the market in bankruptcy loans remains a big worry for many.

Despite the safety of DIP financing, many lenders are pulling back as they grapple with their own problems.

“DIPs are no longer taken for granted,” said Deryck A. Palmer, the co-chairman of the financial restructuring practice at Cadwalader, which is representing Lyondell in its bankruptcy proceedings.

The same financial turmoil that has pushed companies into bankruptcy is also taking a toll on the DIP market. Companies that gorged on debt in good times are struggling to pay that money back. Many pledged virtually all their assets as collateral on those debts, leaving little left to back DIP loans.

“We haven’t changed the parameters by which we do a deal,” said Rob McMahon, the managing director of restructuring at GE Capital. “But companies have higher leverage and decreasing cash flow. They have more troubling prospects.”

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Some big players in DIP loans have run into trouble themselves. One big DIP financier was Lehman Brothers, which went bankrupt last September.

Two others, Merrill Lynch and Wachovia, have sold themselves to other banks to avoid a similar fate. Hedge funds and private equity firms that also arrange such financing are suffering as well.

Many of the biggest DIP lenders insist they are open for business. JPMorgan Chase, for example, is actively involved in the market, Mr. O’Brien said. GE Capital says it is too.

But virtually everyone in the field says that the majority of loans are what are known as defensive DIPs, in which a company’s existing lenders provide new loans to protect their investment and their position in the capital structure. Companies and their bankers are more likely to piece together lending from existing lenders than seek fresh capital, or offensive DIPs, for some time.